Assessing Maximum Employment: A Flow-Based Approach

Stefano Eusepi and Aysegul Sahin

No 33878, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: The Federal Reserve’s dual mandate, to achieve maximum employment and stable prices, requires monitoring a broad range of indicators and carefully evaluating the trade-offs between these goals. We propose a flow-based framework to evaluate real-time shortfalls from maximum employment, focusing on unemployment and participation cycles. This approach highlights that employment stability—driven by improved job-finding and reduced job-loss rates—is the primary factor behind procyclicality of participation, rather than labor force entry. Moreover, we show that cyclical recoveries in participation are bound to lag those in unemployment—even during fast recoveries. We link unemployment dynamics to price stability by estimating a New Keynesian Phillips curve (NKPC) using data on labor market flows, prices, wages, and inflation expectations. Our findings suggest that the natural rate of unemployment, u*, rose significantly following the pandemic, reflecting declines in job-filling rates, reduced matching efficiency, and a persistent increase in workers' real reservation wages. The model interprets the recent disinflation episode as a soft landing through rising expectations of a weaker labor market coinciding with the FOMC's tightening cycle. This observation emphasizes the forward-looking nature of inflation dynamics.

JEL-codes: E3 J20 J6 (search for similar items in EconPapers)
Date: 2025-05
New Economics Papers: this item is included in nep-lab
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